I am having issues with this question. Any help would be appreciated or show me
ID: 2502908 • Letter: I
Question
I am having issues with this question. Any help would be appreciated or show me the working where I could figure it out.
Your boss has given you the responsibility for furnishing the soon-to-be-completed headquarters building. The furniture you have picked out at Cape Furniture Company can be purchased for $125,000 and then sold at the end of its 10 year useful life for $10,000. Cape has also given you the option of leasing the furniture for $18,000 per year for 10 years. Your first payment will be made when you sign the lease and receive the furniture. Under the lease agreement, you will have to return the furniture to Cape at the end of ten years (with no compensation). Assuming the annual interest rate of 9%, which option (buying or leasing) is better and by how much?
Explanation / Answer
We have to calculate the present value of outflow on present date in order to choose one of the given options
1st option:Buying
The Cost of furniture shall be
=INitial investment-Present value of Salvage value at the end of 10 years
=125000-[10000*PVIF(9%,10)
=125000-4224
=$120776
2nd OPtion:Leasing
In this we have to calculate the Present value of all payments made in the period of 10 years.In this case we will not get the benefit of Salvage value
The cost of furniture shall be
=Present value of all Lease payments in 10 years
=$18000*PVIFA(9%,10)
=18000*6.4177
=$115518.6
As the outflow in case of leasing is less we should lease the furniture rather than purchasing it.
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